A study launched by LogicaCMG reports that outsourcing is one means by which UK companies can increase corporate value. The report, conducted by the Centre for Economic and Business Research (cebr), shows that companies that outsource outperform peers and could create an equivalent GBP20 billion of additional shareholder value. However, companies may be falling short in communicating to investors the long-term dividends created by outsourcing, resulting in an under-representation in share valuations, says LogicaCMG.
The LogicaCMG study, "Outsourcing for Corporate Value," analyses historical stock market data of companies that have announced outsourcing deals against companies in the same sector that have not announced deals. The report further explores the total potential value outsourcing can release for UK industry, including the public sector.
The first part of the study investigates the correlation between the announcement of an outsourcing deal and a company's market valuation one month after the announcement. The findings show that companies that have announced an outsourcing deal perform on average 1.7% higher in the stock markets benchmarked against others in their sector that have not announced outsourcing deals. In five out of seven sectors, companies that outsource outperform peers. In certain sectors, companies are realizing upwards of an 11% increase in share value.
LogicaCMG states that despite this increase, the numbers under-represent the opportunities outsourcing creates to maximize long-term corporate value. It notes that shares are priced based upon expectations of the Free Cash Flow, a business is expected to generate and the effect outsourcing (and related initiatives e.g. refocusing for growth) can have on Free Cash Flow generation. Given this, intuitively, outsourcing should positively affect company valuations.
However, this can only be achieved if companies communicate to investors what they plan to do with the cost-savings and opportunities for re-investment that outsourcing creates. The second part of the study uses analysis to forecast the economic impact on corporate value from outsourcing. The analysis calculates that if UK companies increased outsourcing by 52% by 2010, over GBP9.9 billion in additional stock market value would be created.
Guy Warren, chief executive, UK, LogicaCMG, said, "Outsourcing enables organizations to reap benefits in addition to cost-reduction, such as releasing capital and human efficiencies and using savings for reinvestment. We have proved that successful companies do outsource and that more outsourcing would create greater corporate value across the UK economy. However, despite this, UK industry and financial markets could be under-estimating the long-term economic benefits unleashed from outsourcing initiatives."
This economic forecast shows that outsourcing has the potential to be worth GBP370 billion by 2010-up 52% on 2004. If companies increased outsourcing at this level there would be an increase in UK GDP by more than GBP40 billion by 2010 alone, a boost to company investment over the period 2004 to 2010 to GBP25 billion and an additional average boost in gross corporate profits over the period from 2005 to 2010 of GBP698 million per annum or GBP4.2 billion in total over the 5-year period.
Mark Pragnell, managing director at cebr, said, "Outsourcing has been proven not only to reduce costs and increase profitability, but also to enable organizations to improve their utilization of investors' capital, thereby improving free cash flow in the medium to long term. Our findings indicate that those businesses that outsource outperform peers, significantly adding to the value of their owners' investment. Our forecasts show that if UK companies were to take advantage of the opportunities made available from outsourcing, the economy would be boosted, making the UK more competitive."